Amid Social Unrest, China Set To Purge $176 Billion P2P Loan Market

Back in August, when discussing the "source of China's next debt crisis", namely the recent explosion in Chinese household debt which over the past year has soared by over 40% even as credit growth across other debt categories remained relatively stable...

... and which was on the verge of surpassing the nation's corporations as the biggest source of credit demand, we highlighted the one financial sector that has recently emerged as most at risk in China's economy: online peer-to-peer lenders who collect money from retail investors and dispense small loans to consumers, usually without collateral, putting the loans at risk of a default with zero recovery.

We pointed out that outstanding loans on P2P platforms rose 50% just last year to total Rmb1.49 trillion ($215 billion) - making the size of China’s P2P industry far bigger than in the rest of the world combined - and due to their lack of collateral, interest rates often are as high as 37%, with additional charges for late payment.

P2P, in which platforms gather funds from retail investors and loan the money to small corporate and individual borrowers, promising high returns, started to flourish nearly unregulated in China in 2011. At its peak in 2015, there were about 3,500 such businesses.

But after Beijing launched a campaign several years ago to defuse debt bubbles and reduce risks in the economy (a campaign which recently reversed once the Trump trade war started getting hot), including the country’s enormous non-bank lending sector, cracks began to appear as investors pulled their funds.

As a result, the peer-to-peer lending channel not only got clogged up, but went in reverse with the WSJ reporting over the summer that a string of Chinese internet lenders have already shut their doors in recent weeks, stranding investors as the economy slows and regulators tighten controls over an unruly side of the fintech sector.

Across China, more than 200 internet-based fund managers since late June have either shut down, closed parts of their operations or are reeling from cash crunches, missing executives and other problems, according to industry tracker Wangdaizhijia.

The tide began to turn even more forcefully against the sector ahead of a late June deadline for new stringent registration regulations. With a slowing economy making it difficult for some companies to pay back loans, many lenders decided to simply shut down. Meanwhile, investors, already souring on the sector, began pulling out funds, further pinching the lending platforms, and as Reuters reports, since June, 243 online lending platforms have gone bust, according to wdzj.com, a P2P industry data provider. In that period, the industry saw its first monthly net fund outflows since at least 2014.

And, as we further noted, it was only a matter of time before social unrest spread as Chinese investors who had funded these usually small, unregulated P2P operations, found they had lost all their money demanding a bail out. That's precisely what happened... except for one thing: Beijing was already one step ahead of the protesters which is why when in our follow up article we wrote that "Social Unrest Breaks Out In China After "Panic" Bank Run On Peer-2-Peer Lenders", the government was ready and quickly arrested all those who, having lost money on P2P, took to the streets to demand a bailout.

A police officer gestures at the photographer as security patrol outside the
headquarters of China's banking regulator, to prevent planned protests by
investors who lost money from collapsed P2P online lending platforms.

By that point China however, had had enough, and as Bloomberg writes, today, Beijing is preparing to end its $176 billion experiment with peer-to-peer lending.

Alarmed by a surge in defaults, fraud and investor anger, Chinese authorities are planning to wind down small- and medium-sized P2P lending platforms nationwide, people with knowledge of the matter said. Regulators may also order the largest platforms to cap outstanding loans at current levels and encourage them to reduce lending over time, one of the people said, asking not to be identified discussing private deliberations. Shares of P2P platform operators sank in New York.

The shakeout of the P2P industry, which expands on a city-level purge in the P2P hub of Hangzhou, is the clearest sign yet that Chinese leaders want to dramatically shrink a market that spawned the nation’s biggest Ponzi scheme, protests in major cities, and life-altering losses for thousands of savers.

The imminent crackdown on what was recently the most generous, if expensive, source of credit suggests that Xi Jinping’s government isn’t done cracking down on China’s $9 trillion shadow banking industry, despite concern that tougher rules have choked the flow of credit to the world’s second-largest economy.

“Regulators are making it even more difficult for P2P platforms to survive, especially the smaller ones, so that the public won’t suffer more losses,” said Yu Baicheng, Shanghai-based head of research at 01Caijing, an independent internet finance researcher.

Peer 2 Peer lending, especially its online version, has had a rocky several years, starting off euphorically but subsequently suffering from a surge in nonperforming loans as debtors found they had been less than discriminating in who they granted loans.

Marketed as an innovative way to match savers with small borrowers, P2P platforms have had a rocky run globally. U.S.-based LendingClub Corp., battered by a corporate a governance scandal and investor withdrawals, has tumbled 77 percent since its 2014 listing in New York.

Meanwhile in China, as discussed previously, P2P platforms have comprise one of the riskiest and least regulated slices of the shadow banking system. The lack of oversight has allowed for world-beating growth, with outstanding P2P loans ballooning from almost nothing in 2012 to 1.22 trillion yuan ($176 billion).

And as the story so often goes, at first the platforms worked mostly as intended with savers enjoying double-digit yields with few defaults, while small companies secured cash to fund their growth. About 50 million investors signed up as P2P platforms opened at a rate of three a day.

However, some time in late 2016, problems started to emerge as China’s economy slowed and liquidity conditions tightened. One of the first big signs of trouble: the unraveling in early 2016 of a P2P platform described by authorities as a $7.6 billion Ponzi scheme Ezubao that defrauded 900,000 people.

Not long after, Chinese policy makers started a campaign to clean up the country’s shadow banking system. The clampdown further restricted access to credit and fueled a wave of P2P platform closures. China Banking and Insurance Regulatory Commission Chairman Guo Shuqing warned savers in June that they should be prepared to lose all their money in high-yield products, underscoring the government’s intention to avoid a big rescue and the associated moral hazard.

As a result, over the past 2 years, more than 80% of China’s 6,200 P2P platforms have now either closed or encountered serious difficulties, due to factors ranging from take-the-money-and-run schemes to poor investments, according to Shanghai-based researcher Yingcan Group. The platforms had more than 1.5 million clients and 112 billion yuan of outstanding loans.

Meanwhile, having suffered dramatic losses, hundreds of affected P2P investors organized protests in cities including Shanghai, only to be turned back by police as we discussed in August. At least one victim of P2P fraud, a 31-year-old woman from Zhejiang province, reportedly committed suicide after losing almost $40,000.

At this point Beijing launched a real crackdown, starting in Hangzhou, the Chinese fintech hub that’s home to Jack Ma’s Alibaba Group Holding, where regulators told some P2P platforms with less than 100 million yuan of outstanding loans to wind down and repay customers within 12 months, Bloomberg reported earlier this month.

And now, authorities plan to issue similar orders to platforms in other cities and provinces, including Shanghai and Beijing.

Even the nation’s biggest P2P platform operators appear to be anticipating tougher times ahead. CreditEase, the parent company of Yirendai, China’s first listed P2P business, has begun distancing itself from the industry.

“We are today much more than a P2P,” Ning Tang, CreditEase’s founder and chief executive officer said in a Bloomberg Television interview this month. “When we started the company, we invented China’s marketplace lending model. Today, we are a fintech company.”

Ultimately, analysts expect virtually all of the industry to be shuttered or pivot to other activities:

“Clearly, things have been messy,” said Tang Shengbo, a Hong Kong-based analyst at Nomura Securities Co. who estimates that at least 80 percent of China’s remaining P2P platforms will eventually shut. “The industry is heading for a massive consolidation.”

As Bloomberg concludes, it’s unclear what will ultimately remain of China’s P2P market after the clampdown, with only a few companies expected to survive. Only 50 of today’s 1,200 platforms are likely to get regulatory approval to keep operating, according to Citigroup. The industry’s outstanding loans have already dropped by more than 30 percent from the peak.

Meanwhile, as yet another key source of funding for many in China's shadow economy closes, China's traditional sources of credit issuance continue to dry up - with total social financing growth recently dropping to an all time low...

...forcing China's economy to slow even further until one day not even Xi will be able to keep blaming the ongoing trade war with Trump for the rising tide of troubles affecting his economy.